Beware reform hype over India stocks; State-level corruption will remain a problem after May polls

January 2, 2014 9:11 am

Beware reform hype over India stocks

By Henny Sender in Orissa

State-level corruption will remain a problem after May polls

Orissa, on the east coast of India, should be among the most prosperous of the country’s 28 states. At this time of year, fields of fragrant rice are lush and green thanks to bountiful rains. The state is blessed with abundant natural resources including rich deposits of bauxite, coal and iron ore. Nevertheless, Orissa is not doing nearly as well as it ought – like every other state in India, it has been the victim of an increasingly dysfunctional political system.The defeat of the Congress party in several statesincluding Madhya Pradesh, Rajasthan and the capital city Delhi in the first week in December has given rise to hopes for a change at the centre when India goes to the polls in May, and the belief that a new, less anti-business government might work a transformation in the economic landscape.

India’s stock market hit an all-time high the following week while brokers quietly whispered in the ears of their clients that now was the time to put on the so-calledNarendra Modi trade: buy infrastructure shares of companies like Adani, based in Mr Modi’s home state of Gujarat and short shares of companies like property developer DLF which are seen to be close to the Congress party and the Gandhi family.

Still, despite the euphoria greeting election results, and the hype generated by the prospect of a new government at the centre and a capable and telegenic new central bank governor, investors should be wary. “Elections and the [US Fed] taper do not matter much,” note analysts at Credit Suisse in Mumbai in a recent report. “These two most significant known unknowns will have limited impact on the economy and earnings.”

A snapshot of Orissa today shows how difficult it is to work real change, even though Orissa has a pro-business government and chief minister in Naveen Patnaik, who has been in power since 2000. His party, the Biju Janata Dal, was an ally of the BJP but broke away in protest against the ascendancy of the divisive Mr Modi.

Lack of forward thinking

Blame the persistence of vested interests, a system in which democracy is often confused with the right to try to extort from everyone else, a lack of clear rules when it comes to land policies and a constant tug of war between the state governments and the national government in Delhi.

The state governments have also been stymied by a system which – although seemingly democratic – works to nobody’s benefit. That is especially true for huge natural resource development projects that would bring in jobs and wealth and earn foreign exchange for India, which the country desperately needs. But since such benefits will only flow through tomorrow, politicians worry about the loss of votes today and are reluctant to risk the ire of those who have to relocate. The matter is especially sensitive in Orissa because it has a large population of tribal minorities.

For example, in December, London-based Vedanta Aluminium finally got approval from the Orissa state government for access to local bauxite. This came only after founder Anil Agarwal was widely quoted expressing regret that he had invested $8bn in the state and his project had been stymied by the lack of approval for access to raw material. Indeed, the approval process for any new project is so complicated that the last time the government approved a bauxite mine was in 1987.

Vedanta is hardly unique. Eight years after South Korean steelmaker Posco announced plans to establish a $12bn steel complex in the state, the foundation stone has yet to be laid. The state government’s decision to allocate iron ore was challenged by the courts. Central environmental clearances have been held up. The problem is hardly confined just to Orissa. Moreover, a new land bill makes the process even less transparent.

Conspiracy theories

This being India, there are plenty of dark conspiracy theories for why it is so difficult to get approval for projects – especially those backed by foreign capital.

Some people say rival multinational companies fund the non-profit groups which lobby for tribal people and other minorities and delay or thwart big projects. Others claim that Delhi holds up the projects of strong, deep-pocketed outside firms to benefit local magnates that lack the balance sheet, scale and lower cost of capital of these foreign rivals.

“If they had to face competition from foreign companies, they would die,” says one Indian businessman in the steel business. Such conspiracy theories may or may not contain a kernel of truth.

But until the system changes, it is hard to be too ebullient about the prospects for either a flood of new private investment or a sustained rally in the stock market.